This is the second article in a series on configuring Intuit's QuickBooks for nonprofits.
In the
first article, I mentioned that the very first step in configuring
QuickBooks is to have a QuickBooks implementation meeting. I recommended using a questionnaire to facilitate the meeting and act as a centerpiece.
Some of the main goals of the implementation meeting are to produce a consensus on the definition of
- The chart of accounts
- Funding sources (Who funds your organization and what are their reporting requirements?)
- Programs (What service or product does your organization provide or produce — what does it do?)
In this article, I will provide some suggestions on building your chart of accounts in a manner that is practical and will satisfy as many users of your financial statements as possible. I will also provide you with a sample chart of accounts of my design and one called the "Unified Chart of Accounts," which was created by a number of major nonprofit support organizations. The second resource will give you spreadsheets that you can download and use as a learning aid.
Suggestions on setting up your funding sources using the Customer/Jobs utility and your programs (what your organization does) using the Classes utility will be covered too. These will be the subject of the
third and
fourth articles in this series.
Building Your Chart of Accounts
So, if you followed my advice from the first article, you have had your implementation meeting. And (if you are all still speaking to one another) one of the outcomes of that meeting is a listing of the accounts that your organization will need. These accounts will help you to generate the reporting required by all of the users of your financial statements.
By attending this meeting and participating in it, your accounting staff or contractor will have a good idea of the types of accounts that are needed to satisfy most users. The implementation meeting should have provided for an agreement on the names of accounts. That way, all readers will have a mutual understanding of the terms and types of transactions captured in each account.
So, What Exactly Is a Chart of Accounts?
A chart of accounts is a detailed listing of minor categories under the major categories of assets, liabilities, net assets, revenues, and expenses. (See
this article for a similar definition.) Think of the chart of accounts as the foundation for a building you are about to construct. The stronger the foundation, the stronger the building — the same holds true for the chart of accounts.
Another analogy is to think of the chart of accounts as a filter through which information from the outside world will enter your accounting system. The manner in which that filter is set up will be the basis for the reports. If the filter is too summarized, the reports will be too summarized. If the filter is too detailed, the reports will be too detailed. So you can see that if we are to "begin with the end in mind" (as I advised in the first article), we need to let the reports dictate the construction of the chart of accounts — not the reverse.
The FASB, Your Audit Report, and Your Tax Return (and How They Affect Your Chart of Accounts)
You would think that if you have defined all accounts in the major categories of assets, liabilities, net assets, revenues, and expenses, you would be finished building your chart of accounts. And you
would be finished if you were working in the for-profit sector. But unfortunately many nonprofits (that fall into the category of voluntary health and welfare organizations) have to make one more distinction. In the expense section of their chart of accounts, they need to keep track of the "functional" expenses directly related to
- Programs
- Management and administration
- Fundraising
The reason that many nonprofits must do this is because of
Statement of Financial Accounting Standards #117 — Financial Statements of Not-for-Profit Organizations. The body that guides the accounting world (in the U.S.) in matters of Generally Accepted Accounting Principles (GAAP) is known as the Financial Accounting Standards Board (FASB). It does so by issuing "Statements of Financial Accounting Standards" (SFAS). One of the requirements of SFAS #117 is that "voluntary health and welfare organizations provide a statement of functional expenses that reports expenses by both functional and natural classifications."
The statement of functional expenses is unique to nonprofits. It has become extremely important to taxing authorities (the IRS and state tax agencies), funders, philanthropists, and sophisticated readers of nonprofits' financial statements.
It's important because the statement of functional expenses aims to show the amount and percentage of each dollar spent in the three functional expense categories of program, management and administration, and fundraising. The logic behind this classification seems to be that the more a nonprofit spends on its programs, the more efficient it is in performing its mission.
Look at your audit report and your
Form 990 (PDF — see page 10, part IX). If SFAS #117 applies to your organization, you will see the statement of functional expenses.
The ratio between program and total expenses and the statement of functional expenses has become a barometer for a very important group of readers of the financial statements. Therefore, we need to reflect the functional expense categories in the chart of accounts of any nonprofit to which SFAS #117 applies (and this is a large group of nonprofits).
So how does a nonprofit organization report expenses by both functional and natural classifications? Is this akin to asking your accountant to "jump and not come down"? Maybe not, because your implementation meeting will provide you with the raw material for your natural classifications. And I will suggest two methods that you can employ to use QuickBooks to set up the functional expense categories.
Suggested Method #1
The first method I can suggest is one I have used with many of my nonprofit clients. I offer this methodology as a guidepost. I believe that all nonprofits are unique; my hope is that you can take the best of this suggestion and use it to create your own unique chart of accounts.
In QuickBooks, create the three functional expense categories of "Program," "Management and Administration," and "Fundraising" by creating an expense account for each. These accounts will be "major categories," and you will not post transactions directly to these accounts. Next, set up "sub-accounts" underneath each major functional expense category as needed.
This setup may seem redundant (for instance, you will have the sub-account "Salaries" under each major functional expense category). However, the reality is that you do have salaries in each category (for example, the executive director's salary may be split between the three major categories).
The best part of this methodology is that you can create a report in QuickBooks that shows not only how you spent in the functional and natural categories but also the percentages of total expenses related to each functional expense category. This information, as explained above, is very important to many readers of your financial statements.
See this
short video on using this methodology in QuickBooks with a sample nonprofit.
Suggested Method #2
The second methodology I can recommend is for you to take a serious look at the Unified Chart of Accounts (UCOA). UCOA was created by a number of major nonprofit support organizations. They include the
National Center for Charitable Statistics, the
California Association of Nonprofits,
CompassPoint Nonprofit Services, and the
California Society of CPAs. (These organizations have other beneficial information for nonprofit organizations on a number of different topics.) UCOA is a uniform methodology for the chart of accounts in the nonprofit industry based on financial line items in IRS Form 990.
I applaud the sponsors of the UCOA for their efforts. In my opinion, trying to establish a uniform methodology for the chart of accounts in the nonprofit industry is a daunting task. It's a little like trying to change your tire while simultaneously driving your car!
These organizations are trying to create financial statements in the nonprofit industry that meet the needs of all the readers (sound familiar?). Doing so (as many of you now know) is quite a challenge. This challenge is made even more difficult by FASB pronouncements and the massive change in Form 990 by the IRS.
You can find
example UCOA files on Intuit's website that will give you a visual of the logic in the design of the UCOA. The main difference in the UCOA and the method I use most (suggested method #1 above) is as follows. My method creates the major functional expenses directly in the chart of accounts, whereas the UCOA employs the QuickBooks Classes utility to create these functional categories.
Please review both methods closely and customize your chart of accounts accordingly. In order to get the most out of QuickBooks in your nonprofit, you should combine your chart of accounts with the Customer/Jobs and Classes utilities found in the software. The
next two articles in this series will show you how to do just that. They'll also enable you to create some very useful reports that can be run by funding source or by program, all within the same QuickBooks setup!
Additional Resources: QuickBooks for Nonprofits
Mark McCallick, CPA, CGMA is a professor of accounting at Santa Ana College, where he created a QuickBooks course to prepare students to successfully pass the Intuit QuickBooks Certified User exam. He has a B.S. in accounting from Loyola Marymount University and began his career as a CPA at Ernst & Young. Prior to becoming a professor, he ran a CPA firm where he served nonprofit organizations in the areas of software implementation, audit, and tax for over 25 years. Mr. McCallick is a Certified QuickBooks Pro Advisor. These articles were updated by Mr. McCallick in November 2017 for our readers.
